Kyotos Fantasyland Allocating the Atmosphere

By far the most difficult problem for emission trading is distributing the permits. Nearly all studies on the economics of emission trading have treated the political problem of allocation as the proverbial economist's can opener. Assume an omnibus negotiation that distributes emission permits across 190 countries and several generations. Then wonder at the efficient market that can result. Is the assumption valid?

The standard critique of trading is that there exists no consensus on what formula can be used to govern the allocation of permits.1 Emission trading enthusiasts—especially the Clinton Administration, which pushed hardest for emission trading in Kyoto—counter that the successful negotiation of the Kyoto Protocol is proof that permits can be allocated. They also claim that any collective agreement must allocate benefits and burdens—emission trading is no different; rather, the ability to compensate reluctant participants with excess permits might actually ease the problem of allocation. Moreover, enthusiasts argue that allocation problems have been solved in other emission trading systems, such as the successful U.S. program to trade emission rights for sulfur dioxide, the main precursor to acid rain.

On all three claims—the events in Kyoto, the similar allocation difficulties with nontrading mechanisms, and the relevance of domestic trading programs as precedents for international trading—the enthusiasts have focused on the wrong lessons.

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